DMC Global Inc (BOOM) 2017 Q2 法說會逐字稿

Greetings, and welcome to the DMC Global 2017 Second Quarter Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Geoff High, President of Investor Relations.

Hello, and welcome to DMC's Second Quarter Conference Call. Presenting today are: President and CEO, Kevin Longe; and CFO, Mike Kuta.

I'd like to remind everyone that matters discussed during this call may include forward-looking statements that are based on our estimates, projections and assumptions as of today's date and are subject to risks and uncertainties that are disclosed in our filings with the SEC. Our business is subject to certain risks that could cause actual results to differ materially from those anticipated in our forward-looking statements. DMC assumes no obligation to update forward-looking statements that become untrue because of subsequent events.

A webcast replay of today's call will be available at dmcglobal.com after the call. In addition, a telephone replay will be available approximately 2 hours offer after the call. Details for listening to the replay are available in today's news release.

And with that, I'll now turn the call over to Kevin Longe. Kevin?

Thanks, Geoff, and hello, everyone. DMC reported second quarter sales of $47.2 million, which was a 21% sequential increase from the first quarter, and a 14% increase versus the second quarter a year ago. The better-than-expected results were driven by strong demand at DynaEnergetics, our Oilfield Products business, which is benefiting for both increased well completion activity in North America's unconventional sector and from a series of advanced product and technology introductions made during the downturn in the oil and gas industry. DynaEnergetics reported second quarter sales of $26.8 million, which was up 22% sequentially and 80% versus last year's second quarter.

Sales at NobleClad, our explosion welding business, were up 20% sequentially to $20.4 million and were down 23% versus last year's second quarter. NobelClad's revenue stream generally includes a mix of both large projects and smaller maintenance and repair orders. Unlike last year's second quarter, which included deliveries on a $6.5 million order from the semiconductor capital equipment industry, this year's second quarter did not include any large project shipments. This situation reflects the low level of end market spending on major industrial projects during the last several quarters. As I will discuss in a moment, NobelClad is anticipating that several of the large projects it has been tracking, are moving closer to the award and construction phase.

Our second quarter gross margin improved to 30% from 27% in the first quarter and 24% in the second quarter a year ago. Higher average selling prices and a favorable product mix at DynaEnergetics drove the improvement. At the business level, DynaEnergetics' second quarter gross margin was 34% and NobelClad's was 25%. We reported consolidated operating income of $2 million, which included a $458,000 largely noncash restructuring charge. The charge related to the closure of a DynaEnergetics sales and distribution center in Kazakhstan, where recent legislative changes increased the cost of operating the facility which was making only modest financial contributions to the company. In last year's second quarter, we reported an operating loss of $822,000.

At the business level, DynaEnergetics reported operating income of $2 million, including the $458,000 restructuring charge. NobelClad reported operating income of $2.3 million. We reported second quarter net income of $189,000, or $0.01 per diluted share, versus a net loss of $766,000 or $0.05 per diluted share in last year's second quarter. This year's second quarter was negatively impacted by approximately $1 million in realized and unrealized foreign currency losses, which were primarily related to the strengthening euro against the U.S. dollar and Russian ruble.

We reported second quarter adjusted EBITDA of $6 million, up from $930,000 in the first quarter and $3.3 million in the second quarter a year ago. DynaEnergetics reported adjusted EBITDA of $4.2 million, while NobelClad contributed $3.3 million. DynaEnergetics' second quarter sales in North America were up approximately 30% sequentially, outpacing the growth rate of the U.S. onshore rig count by 50% over the same period. The performance reflects DynaEnergetics' successful efforts in recent years to capture a greater portion of the onshore unconventional completions market in the U.S. and Canada. Several top-tier service companies Incorporated DynaEnergetics' high-value products and technologies during the downturn. And as completion activity accelerates in North America's unconventional market, demand for those products is rapidly expanding.

Second quarter unit sales of the intrinsically safe DynaSelect switch detonator were at record levels for a fourth straight quarter and increased 35% sequentially, versus this year's first quarter. Unit sales of the factory-assembled performance-assured DynaStage perforating system were approximately 8x higher in the second quarter than in the first. Based on well completion data from IHS, we estimate that nearly 4% of the unconventional stages completed in North America during the second quarter were perforated with DynaStage. Customer feedback illustrates the tangible benefits DynaStage is delivering to customers.

One of DynaEnergetics' wireline customers is using DynaStage in 3 U.S. basins, and has adopted the system to address a unique fast-paced completion program implemented by a leading exploration and production company in the D-J Basin. This program involves the deployment of gun-string assemblies that are roughly 3x longer than traditional strings. The customer reported that DynaStage has reduced the gun-string assembly time by 80%. DynaStage also has enabled the reduction of the customer's vendor count from 3 to 1 and reduced its working capital requirements. The system also has led to a substantial improvement in the overall reliability of the customer's perforating operations. Another wireline company recently commented that the inherent safety of the DynaStage system gives its completion teams greater peace of mind around the wall site. Given the operational cost and safety benefits of the DynaStage system, we are confident demand will continue to grow.

DynaEnergetics is running 2 shifts on DynaStage assembly line at its facilities in Texas and is continuing its initiatives to expand production and assembly capacity. We noted in our last call that DynaEnergetics implemented a series of price increases during the first quarter as part of its margin recovery efforts. Additional increases were put in place on select products during the second quarter and these efforts will continue during the second half of the year.

At NobelClad, the list of large order opportunities we mentioned during our last call continued to expand during the second quarter. One of these opportunities resulted in the award of a $4 million order to NobelClad last week. The associated clad plates will be used in a specialty chemical facility in Asia. The order will be reflected in NobelClad's backlog at the end of the third quarter and be delivered during 2018. We believe several of the projects, including the prospective $9 million petrochemical order we mentioned last quarter, are moving closer to the award phase and we believe NobelClad is well-positioned to benefit in 2018 and beyond.

I'm encouraged by our achievements during the first half of the year and very pleased with the performance of everyone across the DMC's global network of sales offices and manufacturing facilities.

With that, I'll turn the call over to Mike for some additional comments on our second quarter financial results. Mike?

Thanks, Kevin. And good afternoon, everyone. Looking first at our second quarter expenses, SG&A was $10.6 million or 22% of sales versus $8.9 million or 22% of sales in the second quarter last year. The increase was due to the anticipated increase in outside legal expenses associated with our patent infringement defense as well as higher salaries and wages and higher stock-based compensation expense. Second quarter amortization expense was $1 million, or 2% of sales.

Turning to our balance sheet, we ended the quarter with cash and cash equivalents of $8.6 million. Net debt at June 30 was $15.3 million, up from $9.3 million at the end of the fiscal 2016 and down from $16.9 million at the end of the first quarter. The increase versus the end of 2016 relates to the $3 million we tendered to U.S. Customs in the first quarter, ending the resolution of DynaEnergetics' antidumping and countervailing duties case. Higher legal expenses and increased working capital requirements also drove the increase. During the second quarter, we generated $2.1 million in cash from operating activities.

Turning to guidance. We expect third quarter sales will increase 25% to 30% versus the $36.6 million we reported in last year's third quarter. Gross margin is expected to be approximately 30%, up from the 23% in the year-ago third quarter. SG&A is expected to be in the range of $10.5 million to $11 million versus the $9.5 million in last year's third quarter. Amortization expense should be approximately $1 million. We currently are maintaining our prior financial guidance for the full fiscal year.

And now, we're ready to take any questions. Operator?

(Operator Instructions) Our first question is from Edward Marshall with Sidoti & Company.

So I wanted to ask about the (inaudible) and facility, and was curious if the Tyumen facility made that somewhat expendable for you guys?

Ed, could you repeat your question? You broke up a little bit.

Yes, I'm curious if the Kazakhstan was -- the Kazakhstan change, if that was made expendable by kind of some of the changes in Tyumen, et cetera?

It was. We can serve Kazakhstan from the Tyumen facility going forward.

And other facilities in the surrounding East Asia that may need -- that may pick the same kind of belt?

That, no. That was the only distribution center that we had that would be served by the Tyumen facility.

When I look at DynaEnergetics, I'm curious if you can kind of break out from here, get a little granular, maybe talk about how much of the revenue is generated by DynaSelect? How much is generated by the stage -- the DynaStage system?

The DynaSelect is just the integrated switch detonator. The DynaStage is a full gun system. And we don't get into the specific pricing of those products or systems. However, the DynaStage value would be in the range of 4:1 what DynaSelect would be.

Right. I guess, what I'm asking is the percent of revenue so I kind of see that -- how that grows over time.

Go ahead, Mike.

On the DynaEnergetics side, DynaSelect's about 1/4 of our revenues.

And DynaStage?

It's significantly less than that but certainly, it's ramping up.

Okay. When I look at the cladding business, I'm curious, how much of the sales are booked and shipped inter-quarter? Or does that kind of go in backlog?

Sorry, Ed, you broke up there again on the...

I'm sorry. I'm curious how much of the cladding business is booked and shipped inter-quarter?

Okay. Most of what you're seeing today is book and ship. And I believe the quarter that we just saw was almost one for one. And then, these large projects take us above that level.

Got it. Got it. Could you (inaudible) guidance for Q2 or Q3?

Yes, the guidance for 3Q?

Yes.

Yes, for the third quarter, we said, revenue is going to be up 25% to 30%.

I'm sorry, at the segment level.

At the segment level, we'll see NobelClad in the $15-ish million -- $15 million to $16 million range and DynaEnergetics, we expect in the $30 million range.

So significantly higher than 2Q? And I guess, for DynaEnergetics...

Yes, we see DynaEnergetics growing in the third quarter.

And what's particularly driving it? Do you think that's more volume or more price?

It's both. And the prices are starting to kick in that we -- the price increases that we instituted at the end of the first quarter and through the second quarter.

Our next question is from Gerry Sweeney of Roth Capital.

I wanted to try and dig in a little bit on DynaEnergetics. And forgive me, I'm going to try and figure out how to do this, and I think we've spoken about it in the past. It's obviously, DynaSelect is on a roll, it's doing great. We're starting -- and then on DynaStage, you're up eightfold. And then you also mentioned, I think, DynaStage represented about 4% of, I guess, of stages fracked according to IHS. Going forward, and you've always want and talked about getting a 20% market share. And obviously, DynaStage is growing and then you have DynaSelect and you have your other sort of commoditized business that eventually is going to be pulled into, I think, DynaStage. How do we look at this growth on a go-forward basis? I mean, is this DynaStage, did 20,000 units, you had some production, I think bottlenecks that you're increasing, et cetera. I'm just trying to figure out what the market opportunity is? Maybe what the market size is, and are you sticking to that 20%? So it's a little bit of a convoluted question, but I think it kind of gets the point across as to what we're trying to figure out.

Yes, first and foremost, we feel that we have technology that creates value for our customers, and we want to try to capture that value in our pricing. We are focused on carving out in the marketplace a strong value-added position. And our target is, I should say, would be 20% of the market more for the technology driven aspect of the business around the safe and perforating -- in the performance of the perforations. The growth of DynaStage -- excuse me, DynaSelect, the integrated switch detonator, is a leading indicator of the opportunity for DynaStage. If somebody -- if a wireline service company or end user likes the benefit and features of DynaSelect, the DynaStage is a factory-assembled, performance-assured perforating gun that we assemble and ship complete to the field. But the value proposition on the performance is behind DynaSelect as well as the assembly and quick assembly of these guns in the field. We're creating the market for the DynaSelect integrated switch detonator. DynaStage, when we convert more of our component sales to system sales, we're somewhat cannibalizing previous sales of DynaEnergetics components at the same time that we're expanding the market for complete systems. I don't know if that gets to the...

I guess, sort of. Maybe we can look at it -- so it sounds like you -- what -- maybe we look at it how many units are you producing monthly or quarterly on DynaStage now? I think you sold 20,000 in the second quarter. And I did some channel checks and wrote -- you guys saw that. But I mean, one of the comments was, "Hey, we buy more, but we can't get our hands on it because demand is certainly outstripping supply." I'm trying to figure out growth trajectory going forward, obviously, that $30 million in Q3 is going to be great, but where can you go going forward?

Yes. We estimated approximately 500,000 guns sold in the marketplace in the last quarter and we did approximately 20,000 in DynaStage. And so that's the 4%. And so we feel that there's quite a growth opportunity for DynaStage.

Could you talk about how many you're producing today versus maybe what the average was in the second quarter? And where you want to take that production level?

We're producing -- the second quarter -- or excuse me, the third quarter will be slightly greater than the second quarter. And right now, we're capacity constrained on assembly space.

Okay. Got it. That's good. Okay, perfect. And then you said pricing was just kicking in. Was that pricing -- was that -- you talked about a price increase, I think, on Q1. Is that the only -- you've done one price increase this year, and it's finally sort of gone through the system? Or has there been more than one?

There's been more than one. In March of Q1, we did an across-the-board but it varied by product line and area. And through the second quarter, we've had a series of price increases on select products to bring the margins into what we feel are acceptable ranges.

And then on that front, are they completely in acceptable ranges or are you sort of 50% as to where you want to get it, 75%, 25%? And this way, we don't have to necessarily talk about prices per se, but how far along you are sort of in that process of bringing pricing up?

We're expecting to see an improvement in our gross margin in the third and fourth quarter of this year. We've made good progress this year, but we're still a good 15% off of where we would like to be.

Got it. Did you say, I'm sorry, 15%?

15%.

Got you. Then jumping over to NobelClad, obviously, I mean, there's a little bit more granularity on the segment. It tells us DynaStage -- DynaEnergetics, great shape. NobelClad, obviously, it's going to be probably at least a rougher third quarter. And then, are there any larger projects in the fourth quarter, but -- or you think this is all more 2018? Obviously, it also sounds like there's a lot of large projects and 2018 could be substantially better but looking to maybe start with the share first?

Yes, just to follow on to Ed's question, a lot of what we're seeing today is book and ship, replacement, repair kind of projects. The larger projects have a longer, obviously, gestation period but they usually fall into our backlog and then they're shipped out over a 3- to 6-month period of time. And so the next month or 2 are clinical for the booking of some of these larger projects for them to get into the 2017 revenue. And there's a strong -- as each week goes by, there's a stronger likelihood that the project-based business is going to fall into 2018. And we're quite optimistic, with the projects that we're quoting, we believe they're going to land. They're harder to predict from a timing standpoint because of the long gestation period that they have.

Those projects in the backlog. I mean, there's certain type projects and certain sort of metal combinations that explosive welding is more prone to win than others. Is there a way you can handicap those or some of these right in your alley of -- whether it's the aluminum and titanium or (inaudible), but -- acid or whatever it is? Or are they a little bit more competitive versus roll-bond?

The projects that we're talking about, particularly the large PTA project, if it goes, it's going explosion clad.

Yes.

Yes, and NobleClad.

Our next question is from Jim McIlree of Chardan.

Can you talk about the second ship in Texas? Was that -- did you have the second ship in Texas for Q2? Or is that just starting now in Q3?

We had it for Q2.

Okay. So you're kind of -- so how do you -- what's your next step for capacity additions? Does that require a new facility? Or do you add-on to the Texas facility or -- how do you increase capacity going forward?

We're currently engineering an expansion of that facility from a shape charge capacity standpoint and also floor space for assembly. It is -- because we're handling explosives, in a lot of industries, you could go out and lease space nearby, but our facility in Blum has DMT and ATF approval for assembling explosives. And so we're adding floor space is what we're doing at the existing location.

And when is it expected that you'll have additional floor space at Blum?

Well, we're moving some things around to, on an interim basis, to accommodate assembly and moving off of that site things that do not require the explosive certification for the manufacturing. And we're planning on the availability of new manufacturing -- additional manufacturing space in 2018.

Is it fair to say that the capacity additions for the rest of this year would be relatively modest, and it's really next year that you're going to see a significant jump in capacity?

A significant jump, yes, would be next year. However, we feel that we can double the size of our current capacity for gun assembly from where we are today, this year, this quarter.

Okay. You said, you could, but does that mean that you're planning to do that?

We're planning to do that. We are doing that.

Planning, okay. That's great. And can you refresh my memory about how high gross margins can get in the DynaEnergetics business. And I know there's a lot of moving parts with the capacity additions and the product mix changes and -- I know there's a lot of things going on, but you can maybe bracket where you think gross margins can get to for DynaEnergetics.

Our near-term target is north of 38% gross margins. And I would like to have a caveat that the way that we account for our R&D -- our R&Ds and our cost of good sold, and so that's net of our R&D expenditures.

And a mid-term or a long-term target?

We're -- we would like to see it above 40% consistently.

(Operator Instructions) Our next question is from Edward Marshall of Sidoti & Company.

A quick follow-up. The DynaStage system was 4% of the market in Q2. What would you anticipate it will be in Q3?

We expect -- obviously, we expect it to increase, but I don't think that -- we normally don't project on a product-line basis what the revenues are going to be.

Okay. But is it fair to say that won't necessarily be materially higher? Or do you anticipate it's going to be materially higher?

We would expect it to be materially higher.

Okay. Okay. So let's say, it's double where it is today. You're capacity constrained. It still has a long way to go to get 20% of the market. So what type of investment will you need to kind of capture that extra percent of market share?

Okay. It's actually a very -- it's not equipment-driven or process equipment-driven, it's just floor space and facilities for employees. And so it's a very simple capacity to add. And we're currently working on the engineering part of the facility right now. We'd expect to have that available in the first half of next year.

What the dollar value that, that would cost?

In the $7 million range for next year's investment for this facility.

And that's a 20% market share. You would have to add-on additionally for that?

No.

I'm sorry, no, it would get you to 20% but would...

From an assembly space for DynaStage, that would be enough floor space for assembly. We may need other process equipment to satisfy that market -- part of this, and let me back up, part of it has to do with an estimate of what the market size is next year. So it's not just the market share growth, it's the market size. And we can handle both the market share and the market size growth that we're anticipating with that $7 million into investment into DynaStage manufacturing floor space. As the market grows further, we would expect to need certain process equipment, but that will fall in our normalized CapEx spending.

And just refresh my memory, what do you expect free cash flow to be in 2017? I mean, you knowing that the first half...

Yes, we haven't...

I'm sorry?

We haven't guided on that.

Okay. But I mean -- I guess, my point is you haven't generated cash in the first 6 months of the year. Didn't you anticipate the back half of the year to be a stronger cash performance?

I think it can be slightly stronger. We're going to have a working capital pull from increase in demand in DynaEnergetics, but we expect it to be slightly stronger than the first half.

Okay. So just to be clear. You're kind of constrained by the EBITDA growth in the business, so I think you have to kind of think about your covenants and how that flows through, et cetera, to kind of think about when (inaudible) is invested, is that a fair thought process?

I'm not necessarily concerned with covenants at this point in time the way we see our forecast playing out in our EBITDA if you look at our guidance.

Right. So EBITDA has got to recover first for you to spend money. I guess, that was the question.

As it should.

Yes, correct.

Ladies and gentlemen, we have reached the end of the question-and-answer session. And I would like to turn the call back to Kevin Longe for closing remarks.

Thank you, everybody, for joining us today. We appreciate your continued interest in DMC, and look forward to speaking with you again at the end of Q3. Thank you.

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.